INVESTMENT OUTLOOK: HOW TO GET AHEAD : INVESTMENT STRATEGIES : HEDGES AGAINST INFLATION : Gold and Real Estate Work, but Experts Warn That a Recession Could Ruin the Plan

The unhappy memories of inflation linger long.

During the 1920s, some Germans needed to use wheelbarrows to carry enough of their devalued paper money into town to buy a loaf of bread. The memory of that trauma is a reason the West Germans today keep a tight limit on their economy’s growth, often to the dismay of their allies.

Some Americans who suffered from the high inflation of the early 1980s may be wondering whether they, too, should be taking preventive measures.

For them, it’s time to take a look at hard-asset investments that do well during the inflationary surges that eat away the value of stocks, bonds and cash. Lists of favored inflation hedges include real estate and precious metals, and sometimes natural resource investments and collectibles.

There’s no denying the corrosive effects of inflation. Over 25 years, annual inflation of 5%--a rate seemingly acceptable to most Americans--will sap 70 cents of value from a dollar.

And there is no question inflation is on the rise. For the first 10 months of 1988, consumer prices rose 4.6%, nearly a full percentage point above the rate for the same period of 1987. And when prices begin to surge, they usually continue to increase for some time, offering good reason for investors to look to the popular inflation hedges.

But most financial advisers these days urge anyone preparing to tinker with their portfolios not to overdo it. At the moment, most experts view recession as at least as much of a threat as inflation.

After all, the average 1989 inflation forecast of economists surveyed last month by Blue Chip Economic Indicators, a Sedona, Ariz., newsletter, was 4.7%, virtually unchanged from this year. And a portfolio strongly tilted to inflation-fighting would be highly vulnerable if the economy did tumble into a recession.

“If a recession is coming, the most dangerous thing you can do is reshuffle your assets to protect against inflation,” says Robert M. Heier, president of the Heier & Co. financial planning firm in MacLean, Va.

Gold has been the primary haven for those who fear inflation. It usually soars when fears of economic calamity drive investors from other investments.

Gold reached a high of $850 an ounce in 1980, when inflation raged at 16%. These days, gold bulls note that its recent price of about $425 an ounce represents a slump from its 12-month high of about $500, and predict that it is soon likely to recover.

Investment advisers often recommend that investors put 5% to 10% of their portfolio in gold, with an enthusiastic minority putting an upper limit at 15%. This investment isn’t for the faint of heart, for gold prices fluctuate rapidly.

The principal ways of investing in gold are in bullion, which comes in wafers, coins, or bars; gold accounts or certificates; gold mining stocks, and mutual funds that trade in the stocks of gold mining concerns.

Silver also has been widely used as an inflation hedge, but it is less valuable for that purpose because of the metal’s wide industrial use. Such uses mean its prices also gyrate with industrial demand.

Real estate is a second frequent haven during periods of heavy inflation. From 1971 to 1981, when inflation speeded up at an average 7% a year, home prices were rising at 10.3% a year, according to the Morgan Stanley & Co. investment banking firm. Stocks, in contrast, had an average total yield--including appreciation and dividends--of less than 6% a year.

From the time they were young, most people have heard arguments that they should buy a home, for their multiple blessings of shelter, the tax-deductible mortgage interest and forced savings. Many investment advisers recommend that in addition to your investment in a home, you should put another 5% to 20% of your portfolio in professionally managed real estate investments, which include real estate investment trusts (REITs), limited partnerships, master limited partnerships and mutual funds that buy and sell shares in real estate related companies, trusts and partnerships.

While each of these investments has its advocates, the real estate investment trust is considered one of the better vehicles for small investors.

These trusts own properties or make loans to them. Their shares are traded on major stock markets, usually at prices of $10 to $20 apiece. Part of their appeal is that they aren’t taxed at the corporate rate, and are required to pass 95% of capital gains and 85% of operating income to investors.

The 106 actively traded REITs had an average total return of 13.54% in the first 10 months of the year, according to the National Assn. of Real Estate Investment Trusts. But most of that came in the first two months of the year, as REIT stock prices continued to bounce back from their post-crash lows.

To be sure, lots of experts feel queasy about what changes in the market in recent years mean for real estate investments in the years ahead. Congress reduced real estate’s appeal with its 1986 tax law changes.

Just before that, developers and real estate syndicators were carpeting the landscape with office buildings, shopping malls and condo complexes, driving up vacancy rates in many parts of the country.

And if there is a recession, real estate will not be the place to be. When the economy contracts, businesses and individuals tend not to want plusher quarters; some can’t pay the rent at all.

Bonds of some foreign countries are an interesting inflation antidote favored by investment adviser Lawrence Biehl of Bailard, Biehl & Kaiser, a money management firm in San Francisco. Inflation pounds domestic bonds, of course, because it means borrowers can pay off their debts with cheaper money.

But investors can stay ahead of the game if they buy bonds in tightly controlled, low-inflation countries such as West Germany, Switzerland and the Netherlands, Biehl says.

Another anti-inflation strategy is to buy stock in natural resource companies, such as timber, copper or oil firms, since demand for them will be relatively unaffected by surging prices, says John Markese, research director for the American Assn. of Individual Investors.

He offers another inflation fighting tactic: Buy shorter-term certificates of deposits and bonds, so you’re not locked in at a lower interest rate if the Federal Reserve raises interest rates to brake inflation.

Collectibles, a frequently discussed inflation hedge, are a tricky investment for most average investors. There is no organized market for scrimshaw, comic books or period furniture, so it is often hard to sell, and harder to calculate what objects are worth.

And sometimes when prices are high and investors need to make an unsentimental decision to sell their pieces, they realize they are too attached to let them go, notes Ann Lieberman, with Lieberman Associates Financial Planning in Larkspur, Calif.

INVESTMENTS AND INFLATION

Annual rates of return under various economic conditions from 1871 through 1985.

Source: Morgan Stanley